Monday, July 10, 2006

USD Recovers as Stocks Rebound and Excuse me but your Yield Curve is NEGATIVE

EUR/USD 1.2731 / 34 Hi 1.2820 Low 1.2721
USD/JPY 114.12 / 16 Hi 114.28 Low 113.44
EUR/JPY 145.25 / 29 Hi 146.14 Low 145.01

The Japanese Stock Market ignored both the weak performance on Wall Street Friday and the rumours that the BoJ stands ready to hike rates in the short term (possibly as early as Friday this week). The focus of the market was instead on strong underlying fundamentals and the Nikkei closed up 1.6 percent. A positive open on Wall Street helped European markets bounce back from early weakness and the underlying tone of European markets remains positive. Leaving aside the possibility that global stock markets take a dive, the only major shadow overhanging European markets is the threat that European rates will move higher on August 3rd.

The outlook for higher rates in the Euro Zone wasn't enough to push the Euro/USD higher today, and with EUR/JPY near record highs, strong selling pressure on the crosses is likely to keep the Euro rally in check in the short to medium term. Before the Euro/USD can make further progress to the upside the USD/JPY has to see further weakness. Essentially the USD/JPY has to lead the USD bear trend from here on in. So the focus is back on the USD/JPY and a possible BoJ move Friday.

One way or the other, the markets need more information to break out of ranges. With trading volumes fading as Summer approaches, even rate hikes may not be enough to see the market sit up and take notice. Quarterly earnings results though could end up being the catalyst for a break out. The market is anticipating strong results in the States, and if we actually get good numbers, this should support the case for a short term USD rally. If results are weak , however, the recent reassessment of underlying fundamentals, which saw position squaring lead to a sharp correction, could be repeated.

Oil 73.48
Gold 627.20

Profit taking from record levels saw OIL prices soften and the modestly firmer USD also saw GOLD prices fall slightly this morning. No major news, no major short term trend and, like FX, these markets remain in a holding pattern.

One point of note: the U.S. Yield Curve is now clearly NEGATIVE (ie. the FED FUNDS rate at 5.25% is higher than both the 30 year Treasury yield at 5.19% and the 10 year yield at 5.15%). Negative yield curves normally point to economic slow down and a bear market in stocks. So far no-one seems to have noticed.

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